For Safety And Yield, Put National Grid plc In Your ISA

It has a 5.1% yield, in the top 10% of FTSE 100 companies and well above the average 3.6%. That means National Grid (LSE: NG) (NYSE: NGG.US) pays out at least 1.5% a year more than a FTSE tracker fund, yet it is surely one of the safest companies in the index.

The company is best known as the monopoly provider of the UK’s high voltage electricity and gas transmission, but a third of its profits come from North Eastern US. Nearly all of its activities are economically regulated, meaning that National Grid agrees with the regulator what return on its assets it’s allowed to make, and how much capital expenditure it should undertake. There’s scope to make efficiencies to increase profits, and capital expenditure automatically increases the future asset base so providing profit growth.

Sweet stability

Investors may feel cautious of the UK energy sector after seeing shares in Centrica and SSE battered by political risk. But National Grid is in a sweet-spot of stability. Last year the company reached an eight-year agreement with the UK regulator stretching through to 2021. Compared to the energy companies:

  • Economic regulation is laid down by law and is inherently more predictable and insulated from political interference;
  • The regulatory agreement lasts through the life of the next parliament, making it difficult for a new government to change the rules;
  • As it doesn’t have retail customers, National Grid is lower profile and there’s less votes in bashing it.

US regulation is more piecemeal, but including the UK the company reached agreements covering 80% of its regulated asset base in the last two years, so overall regulatory risk is low.

Hard-wired growth

Over the next five years the UK regulated asset base should grow by 7% p.a., to replace Britain’s ageing infrastructure and reflect a changing energy mix — wind farms have to be connected to the grid! That hard-wires profit growth.

national gridNational Grid’s income is inflation-linked, too. One day the vast quantities of newly-printed money might just come back to haunt Western economies, and there’s no harm in having some inflation-proof assets in your portfolio. National Grid’s dividends grew by 8.5% a year over the past seven years, and analysts are expecting at least 4% p.a. for the next two years.

And the runner up is…

Amongst the companies yielding more than National Grid are a couple of insurance companies (but they have accident prone dividends), a couple of supermarkets (outlook uncertain), SSE and Centrica (political risk), Imperial Tobacco (declining industry) and HSBC. China-related risks just push HSBC into second place.

Albert Einstein called compound interest the eighth wonder of the world, and the mathematics of how reinvested earnings build up is truly astounding. Just reinvesting that dividend for eight years would increase the value of your holding by nearly 50%, before any increases in the dividend and share price.

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Tony owns shares in National Grid, Centrica, SSE and HSBC but no other shares mentioned in this article.